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In a first-party, bad faith lawsuit, the insurance company’s claims file is one of the first items requested in discovery by most plaintiffs’ attorneys. And, in spite of any objections raised by defense attorneys, most courts will order an insurer to produce the relevant and non-privileged portion of its file. Documents that are frequently turned over include those which underlie the insurer’s claims investigation and that support their denial of coverage.

Therefore, the question becomes what should be deemed privileged and not subject to discovery? In answering that question, some might argue that an insurer’s communication with its attorney and the attorney’s personal work product, i.e., notes and memoranda should be deemed confidential and not subject to discovery. However, during the pre-suit, pre-denial stage of a first-party claims investigation, generally the primary area of controversy, the issue is whether the attorney was acting as legal counsel to the insurer, or acting more like an investigator whose work product should be open to discovery?

How a court resolves these issues is important because it raises huge implications on the extent to which communications and correspondence between an insurer and its attorney will be held in confidence. Under that backdrop, this article will examine a recent decision by the Supreme Court of the State of Washington that addresses some of these issues.

Bruce Cedell v. Farmers Insurance Company of Washington - In the Supreme Court of the State of Washington - No. 85366-5 February 21, 2013

In November 2006, a fire completely destroyed the second story of Bruce Cedell’s home in Elma, Wash. At the time of loss, he had been insured by Farmers Insurance Co. of Washington for more than 20 years. Mr. Cedell was not home at the time of the fire, but his girlfriend, Ms. Ackley, was there and she called the fire department and carried their two-month old child outside.

Ms. Ackley claimed that a candle started the fire and the Elma Fire Department agreed, finding that a candle was a possible or even probable source of the fire’s ignition; and they found no physical evidence of incendiarism. Nevertheless, Farmers declined to immediately extend coverage because Ms. Ackley (who was not an insured) had given inconsistent statements. Allegedly, Ms. Ackley stated that she and others might have consumed methamphetamine in the house on the day of the fire. However, Mr. Cedell testified under oath that he had not consumed methamphetamines and that he had no knowledge that Ms. Ackley had.

While awaiting a coverage decision, Mr. Cedell claimed that Farmers ignored his repeated phone calls, claimed that he was forced to file a complaint with the office of the insurance commissioner and ultimately, eight months after the fire, forced to hire an attorney to elicit action from Farmers. In January 2007, a Farmers adjuster estimated the building damages at $70,000 and the personal property loss at $35,000. A few months later, a Farmer’s estimator, estimated the building damages at $56,498.

During the course of its investigation, Farmers hired an attorney, Ryan Hall, to assist in making a coverage determination and to conduct an examination under oath (EUO) of Mr. Cedell and Ms. Ackley. In July 2007, Mr. Hall sent Mr. Cedell a letter stating that the origin of the fire was unknown but that Farmers might deny coverage based on a delay in reporting, even though, the claims file suggested that Mr. Cedell reported the loss on Nov. 27, 2006, two days after the fire. Mr. Hall also stated in his letter that coverage might be denied because of Ms. Ackley’s and Mr. Cedell’s inconsistent statements about the fire. The letter further offered Mr. Cedell a one-time offer of $30,000, good for 10 days. Mr. Cedell tried unsuccessfully to contact Farmers about the offer during the 10-day acceptance period, but allegedly no one from Farmers returned his call.

In November 2007, Mr. Cedell sued Farmers alleging, among other things, that it acted in bad faith in handling his claim. During the course of litigation and in response to Mr. Cedell’s discovery requests, Farmers produced a heavily redacted claims file, asserting that the redacted information was not relevant and/or was privileged. Farmers also declined to answer some of Mr. Cedell’s interrogatories on the ground of attorney-client privilege, including Mr. Cedell’s question of why it gave him only 10 days to either accept or reject their $30,000 offer.

Mr. Cedell filed a motion seeking the court to compel Farmers to produce the redacted information, contending that the claim of attorney-client and work product privilege in bad faith litigation is severely limited and, therefore, asked the court to conduct an in-camera review, i.e., a private review of the withheld material by the judge. Farmers opposed the motion and sought an order protecting from discovery all privileged communication with its counsel.

The trial judge considered the motions and reached a finding of fact that (1) Mr. Cedell was not home at the time of the fire, (2) the fire department and Farmers’ fire investigator had concluded the fire was accidental, (3) Farmers knew the fire had left Mr. Cedell homeless, (4) a Farmers adjuster appraised the damage to the house at $56,498.84, (5) another adjustor estimated the damage at $70,000 for the house and $35,000 for its contents, (6) Farmers made a one-time offer of $30,000 with an acceptance period that fell when Mr. Hall was out of town, (7) Farmers threatened to deny Mr. Cedell coverage and claimed he misrepresented material information without explanation, and (8) the damage to the house was eventually valued at over $115,000 and more than $16,000 in code updates.

The judge awarded attorney fees to Mr. Cedell relating to his motion to compel, capped at $2,500, and assessed $5,000 in punitive sanctions against Farmers and payable to the court. The judge also reviewed the disputed document, in-camera, and stated that:

In the context of a claim arising from a residential fire, the insurer owes the insured a heightened duty, a fiduciary duty, which by its nature is not, and should not be, adversarial. Under such circumstances, the insured is entitled to discover the entire claims file kept by the insurer without exceptions for any claims of attorney-client privilege.

The judge then ordered Farmers to provide Mr. Cedell with all documents that it had withheld or redacted based on the attorney-client privilege, and increased the sanctions payable to the court to $25,000. Pursuant to a request by Farmers, the Court of Appeals granted immediate review, reversed the trial court’s ruling and held that there were insufficient grounds to pierce the attorney-client privilege between Farmers and Mr. Hall. The Washington Supreme Court subsequently granted review of the lower courts’ decisions.

Insurer has a “Quasi-Fiduciary Duty” to act in Good Faith

The Washington Supreme Court began its review by holding, contrary to other jurisdictions, that a first-party bad faith claim arises from the fact that the insurer has a quasi-fiduciary duty to act in good faith toward its insured, and should usually be allowed to access the insurer’s claim file in order to discover facts to support a claim of bad faith.

To permit a blanket privilege in insurance bad faith claims because of the participation of lawyers hired or employed by insurers would unreasonably obstruct discovery of meritorious claims and conceal unwarranted practices.

* * * * * *

We start from the presumption that there is no attorney-client privilege relevant between the insured and the insurer in the claims adjusting process, and that the attorney-client and work product privileges are generally not relevant.... However, the insurer may overcome the presumption of discoverability by showing its attorney was not engaged in the quasi-fiduciary tasks of investigating and evaluating or processing the claim, but instead in providing the insurer with counsel as to its own potential liability; for example whether or not coverage exists under the law.

“Presumption of No Attorney-Client Privilege”

Accordingly, the Washington Supreme Court concluded that Farmers hired an attorney, Mr. Hall, to advise it on legal issues of coverage and, to the extent Mr. Hall issued legal opinions as to Mr. Cedell’s coverage under the policy, Farmers would be able to claim a privilege, i.e., overcome the presumption favoring disclosure of Mr. Hall’s file by showing that Mr. Hall was not acting in one of the ways the insurer must act in a quasi-fiduciary way toward its insured.

However, the court also found that Farmers hired Mr. Hall to do more than give legal opinions, i.e., the record reflected that Mr. Hall assisted in the investigation, took sworn statements from Mr. Cedell and a witness and corresponded with Mr. Cedell, and assisted in adjusting the claim by negotiating with Mr. Cedell. Thus, seven months after the fire, Mr. Hall wrote to Mr. Cedell offering a “one time offer” of $30,000, which was open for only 10 days, and threatened denial of coverage if the offer was not accepted. The court found that it was Mr. Hall who was negotiating with Mr. Cedell on behalf of Farmers, and that it was Mr. Hall who did not return his calls when Mr. Cedell was attempting to respond to the offer.

While Mr. Hall may have advised Farmers as to the law and strategy, he also performed the functions of investigating, evaluating, negotiating, and processing the claim. These functions and prompt and responsive communications with the insured are among the activities to which an insurer owes a quasi-fiduciary duty to Mr. Cedell. Assuming Farmers was able to overcome the presumption of disclosure based upon a showing that Mr. Hall was not engaged in quasi-fiduciary activities, it was entitled to an in-camera review and the redaction of his advice and mental impressions he provided to his client.

* * * * * *

To summarize, in first-party insurance claims by insured’s claiming bad faith in the handling and processing of claims, other than UIM claims, there is a presumption of no attorney-client privilege. However, the insurer may assert an attorney-client privilege upon a showing in camera that the attorney was providing counsel to the insurer and not engaged in a quasi-fiduciary function. Upon such a showing, the insured may be entitled to pierce the attorney-client privilege.

On that basis, the Washington Supreme Court held that the insured, Mr. Cedell, is entitled to broad discovery, including, presumptively the entire claims file, and reversed in part, and affirmed in part, the trial court’s prior rulings and remanded the case back to the trial court for further proceedings consistent with its opinion.

Conclusion

It is first important to note that not all states agree with the Washington Supreme Court that an insurer owes a quasi-fiduciary duty to its insureds in a first-party claim. Notwithstanding, an insurer can largely overcome the adverse impact of this court’s ruling by establishing that its attorney was not engaged in the tasks of investigating and evaluating the claim. Upon such a showing, the insurance company should be entitled to the redaction of communications from its counsel that reflects the mental impressions of the attorney to the insurance company, unless those mental impressions are directly at issue in their responsibilities to their insured. Finally, as the court in this case suggests, where an attorney is acting in more than one role, insurers may wish to consider setting up and maintaining separate files so as not to co-mingle the different functions being performed by their attorney.

The views expressed in this document are solely the views of the author and not Martindale-Hubbell. This document is intended for informational purposes only and is not legal advice or a substitute for consultation with a licensed legal professional in a particular case or circumstance.

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